First Quarter: By The Numbers

The March quarter was the stock market’s best start to a year in over a decade. Indeed, we have to go back to the heady days of 1998 to find a better launch for the S&P 500 and the Dow Industrials; even further (1991) for the NASDAQ, which soared by nearly 19%. That means that it was very hard for most investors to have a losing hand for the period, and the Dogs of the Dow were no exception. As a group, the 10 Dow components with the highest yields at the end of 2011 were up 5.2% in the March interim. This was a solid performance by any measure. Indeed, it’s more than the total increase in the S&P 500 since the end of 1999.

However, as has been the case in the past, the strategy tends to be a laggard during bull markets. On point, an equally weighted investment in all 30 Dow Industrials would have shown an even more impressive increase of 11.2% over the period. Moreover, the 20 Dow members with the lowest yields at the start of the year stole the show, with an advance of 14.2%.

A Closer Look At The Dogs

Among the leaders of this year’s pack, Intel (INTC - Free Intel Stock Report) heads the list with a 16.0% price advance in the first quarter. A solid December-quarter earnings report likely was a big factor behind the move, plus the fact that the chip maker guided toward a more robust gross margin for the seasonally slower first quarter.

DuPont (DD - Free DuPont Stock Report) also had a good run, advancing 15.6% for the period. The diversified chemical manufacturer reported record sales and profits for 2011 and the uptrend appears set to continue, fueled by strong fundamentals in the agricultural and food markets.

Industrial behemoth General Electric (GE - Free General Electric Stock Report) rounds out the list of top Dogs for the March period, with its shares rising 12.1%. The stock was one of two newcomers to the Dogs list this year. Despite relatively weak fourth-quarter results, the market appeared to be heartened by the company’s plans to restructure its European operations, while its GE Capital division continues to be overhauled to gain further efficiencies.  

On the other side of the ledger, the Dogs’ overall performance was dragged down a bit by telecom giant Verizon (VZ - Free Verizon Stock Report), whose stock shed 4.7% of its market value in the interim. While its fourth-quarter financials showed record revenues, profit margins got squeezed by handset subsidies and capital outlays to help fuel iPhone subscriber growth. However, these expenses will decline as a percentage of revenues, and we expect bottom-line growth to resume this year.

The Other Guys: Taking It To The Bank

The big story so far this year has been how well the “non-Dogs” have done, that is, the 20 Dow stocks that had the lowest yields at the end of 2011. As previously noted, an equally weighted investment in these issues at the start of the year would have been up 14.2% by the end of March.

A large portion of this was driven by the eye-popping 72.1% advance by Bank of America (BAC - Free Bank of America Stock Report) shares. The company’s fortunes had a rough go of it last year. With huge losses reported in the second quarter of 2011, and a relatively weak showing overall, the stock took a shellacking last year, shedding 58.3% of its market value. Notably, it didn’t seem to help the common shares much when Warren Buffett felt confident enough to buy $5 billion worth of the company’s preferred stock last August. (Of course, Mr. Buffett, being no fool, is pocketing a 6% annual yield on his investment, about six times what the common stock currently generates.)

However, despite a plummeting share price, things began to improve for BAC in the second half. The bank sold off some nonessential assets, lowered its credit costs, and announced an overall plan to cut $5 billion from expenses by the end of next year. All of which has apparently cheered the market to no end. Overall, however, the company’s earnings are not likely to revisit the financial bubble’s peak levels for years to come, and the stock will likely remain highly volatile as mortgage litigation issues and euro zone debt concerns linger.

The other big bank stock in the Dow, JPMorgan Chase (JPM - Free JPMorgan Chase Stock Report), has also had an admirable showing so far this year, rising 38.3% in the same period. Its stock also had a tough slog of it in 2011, falling 21.6%. However, in contrast to BAC, the company has now posted three consecutive years of rising earnings, with 2011 showing record net profits. JPMorgan Chase stock recently popped after the company raised the quarterly dividend by 20% (to $0.30 a share) and gave word that it planned to buy back as much as $12 billion of its outstanding shares this year.

Also doing well within the financial sector is American Express (AXP - Free American Express Stock Report), which rose 22.7% in the March quarter. Rounding out the list of best “non-dog” performers are Microsoft (MSFT - Free Microsoft Stock Report), up 24.3%, and Home Depot (HD - Free Home Depot Stock Report), which rose 19.7%. This group also happened to include the worst performing Dow stock for the period, Hewlett-Packard (HPQ - Free Hewlett-Packard Stock Report), which was down 7.5%. The computer hardware, software, and services company appears headed for a second straight year of lower net profits, though a turnaround may not be too far in the offing.

The Bottom Line

The Dogs of the Dow strategy often appears to perform comparatively better during flat to down markets. Thus, if the first quarter is any indication of how the rest of the year will pan out, 2012’s Dogs will likely be relative laggards. Still, at least by historical standards, maintaining the current pace wouldn’t be at all too shabby. Although short-term performance may sometimes be uninspiring, it’s important to keep in mind all the other benefits to be derived from following the strategy. Namely, the minimal time required for research, the relative safety of sticking to blue chip stocks, the above-average payouts garnered from choosing the highest-yielding Dow components, and low turnover .

At the time of this article’s writing, the author did not have positions in any of the companies mentioned.